America must rescue the bonuses at Goldman Sachs

Anyone who caught even a sliver of Thursday’s hearings in the US Senate on the proposed treasury bailout of the mortgage-backed securities market knows that the current financial crisis is far from over. Suddenly all sorts of previously unthinkable catastrophes seem possible.

The total collapse of the global financial system is one thing—everyone at Davos in January saw that coming. But the shrinkage of the Goldman Sachs Group Inc. bonus pool is another. Whatever else the treasury achieves it must know that if the employees of Goldman suffer any sort of pay cut, it will be judged to have failed. And our country may never recover.

Last year Goldman paid its employees $20 billion (Rs92,600 crore), 44% of the firm’s revenue. Chief executive officer Lloyd Blankfein took home $68.5 million, and many otherwise ordinary human beings took home $10 million, or more.

This inspired young people, many of whom may have privately wondered whether it was still worth their time to become investment bankers. Torn between a future in, say, the law and the manufacture of mezzanine CDOs (collateralized debt obligations), they sucked up their courage and plunged onto Wall Street. And thank God for that: we needed the best and the brightest to get us into this mess, and we’ll need the best and the brightest to get us out of it.

Therein lies the problem: if they see Goldman’s salaries and bonuses declining, who among the best and the brightest will join Goldman?

To?its?credit, the?government has thus far done all it can to prevent any suffering inside the firm. Its extreme sensitivity to Goldman’s pain is the only way to explain its actions thus far. But its approach has been crude; it has been using a sledgehammer to do a scalpel’s job. For instance, by banning the short-selling of shares in the amazing number of Wall Street-related firms that US apparently cannot live without (Moody’s Corp.?), it may have prevented Goldman from being driven out of business. Certainly, the ban caused Goldman’s share price to fall less than it otherwise would have.

But this wise policy ignores the fact that Goldman Sachs, perhaps more than any other financial firm, makes a lot of money from the short-selling of Wall Street-related stocks—by enabling its hedge-fund clients to do it.

Goldman needs any revenue it can get its hands on right now. A wiser policy would have been to disallow the short-selling of Goldman’s shares alone, and let the other 925 financial-related firms collapse. Goldman was already well positioned to devour little pieces of Lehman Brothers Holdings Inc.and American International Group Inc. If other firms were allowed to suffer a bit more, Goldman would consume their juiciest bits too, and become stronger for it. (Come to think of it, Goldman should just get it over with and buy Moody’s so it can rate its own securities.) Perhaps its share price might cease to fall.

This points to what amounts to a character flaw inside the Securities and Exchange Commission: fear of the bold stroke. Clearly it wasn’t enough to ban the short sale of Goldman’s shares, as those shares resumed their downhill journey. What’s needed is a broader ban on pessimism of any sort. Worrisome newspaper articles, whispered conversations, mildly sceptical thoughts, anything that might adversely affect Goldman’s share price: all these, too, must be outlawed.

Lately, for instance, I have heard several hedge fund managers gossiping about treasury secretary Hank Paulson. One of the things they say is that in leaving Goldman for government service, Paulson made the greatest trade of his life. Not only was he required to sell his half-a-billion dollars in Goldman stock near the high, but also, as treasury secretary, he was exempt from capital gains taxes. By getting out of Goldman while the going was good, the guy may have doubled his networth.

These managers are the same who just a few days ago were shorting Goldman’s shares and now have nothing to do with their time than gossip about an esteemed Goldman alumnus. Shame on them. Their idle chit-chat is just the sort of negativity our government needs to ban.

But I don’t want to dwell on the government’s failure. As I say, so far they’ve done a good job by making sure no one at Goldman suffers so much as a scratch on his person. I want to look to the future.

The treasury has proposed using $700 billion of taxpayers’ money to buy the shaky investments created by the likes of Goldman and sold to customers. This is good, for many obvious reasons, and one less obvious one, too. It has slowed the market’s desire to put Goldman out of business. It also offers Goldman a place to stuff its bad investments at prices well above market levels.

But the treasury plan also creates this hidden opportunity for Goldman to make a killing, and thus preserve its bonus pool for a long time.

Think of Wall Street as a poker game and Goldman as the smartest player. It’s sad when you think about it this way that so much of the dumb money on the Street has been forced out. There’s no one left to play with. Just as Goldman was about to rake in its winnings and go home, the government stumbles in, fat and happy and looking for action. I imagine the best and the brightest inside Goldman are trying to figure out how it uses the treasury not only to sell their own sticky assets dear, but also to buy other people’s sticky assets cheap.

At any rate, it won’t take long for Goldman to figure out how to make that $700 billion work. This you can trust them to do. After all, Warren Buffett just did.